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Now is not the time to put regressive carbon tax in place

Finalisation of bill is imminent, but it will add to business costs and may lead to job cuts

08 October 2018 - 05:07 Michael Ade

While the official moratorium placed on the government’s nuclear ambitions is generally welcomed, the looming carbon tax hovers over businesses in the manufacturing sector like the blade of a guillotine.

Although the implementation of the Carbon Tax Bill has been postponed several times since it was introduced nine years ago, its finalisation is now imminent, with a second draft bill already published for comment and scheduled in the 2018 National Treasury Budget Review for January 1 2019.

In its current form the bill will see carbon dioxide emissions determined on the basis of fossil fuel inputs and reported in accordance with the department of environmental affairs’ national greenhouse gas emission reporting regulations. To allow businesses time for the transition, a basic percentage-based threshold of 60% of carbon dioxide equivalent produced will apply, below which tax is not payable. The proposed tax is R120 per ton of carbon dioxide equivalent for emissions above the tax-free thresholds.

Banning fossil fuels — coal, oil or gas formed in the geological past from the decayed remains of plants or animals — is impossible

In addition to its revenue-generating effect, the proposed carbon tax is intended to serve two purposes. One is to deter businesses from producing excessive amounts of harmful substances and pollutants such as carbon emissions from industrial processes, carbon dioxide and fossil fuel combustion. Another is to compensate for externalities, the cost to society as a whole of that harmful behaviour.

Banning fossil fuels — coal, oil or gas formed in the geological past from the decayed remains of plants or animals — is impossible. Given that burning fossil fuels invariably uses oxygen and produces carbon dioxide, economists recommend taxing carbon dioxide emissions to limit consumption. The carbon tax is, therefore, ultimately designed to encourage a transition to more environmentally friendly ways of operating in various industries, while also generating revenue for the government.

The rationale for the proposed carbon tax is similar to the plastic bags levy, which was introduced in 2003 to reduce plastic bag consumption and curb the effects of plastic pollution on the country’s natural environment. However, although the plastic bag levy is not high enough to dissuade purchase, it is high enough to add to production costs over the long term and invariably affect the poor. Also, the levy is too local in scope, meaning the sale of plastic bags in neighbouring countries may have increased by a significant amount, thereby acting as a countervailing force and limiting the desired intended revenue and deterrent effects on consuming the material.

Steel as a material does not pose any health complications for human beings or to the animal and plant kingdoms. However, the furnaces used in steel production processes often use large amounts of fossil fuels, thereby greatly contributing to carbon emissions, global warming and climate change.

Notwithstanding these concerns, the timing is not right to levy a carbon tax, which is in effect a tax on production processes. The broader local steel industry is experiencing a tough time at present, with low domestic demand, lack of new markets, a rise in exports of steel by China and the burden of a 25% tariff on exports to the US market. These challenges, along with some other external factors, have generally decreased steel exports, reduced existing market share and forced many local companies to shut down.

The rationale for the proposed carbon tax is similar to the plastic bags levy, which was introduced in 2003 to reduce plastic bag consumption and curb the effects of plastic pollution on the country’s natural environment

As policy instruments, production taxes are extremely blunt — businesses will be compelled to pay the proposed taxes irrespective of whether they are profitable. Given that the carbon tax is generally aimed at businesses that rely heavily on electricity and diesel or petrol as inputs into their operations and therefore emit high levels of carbon, these industries will suffer most.

Three of the top five export-intensive subcomponents of the metals & engineering (M&E) cluster (the basic metals, including iron and steel products; machinery and equipment; and transport equipment subindustries), are all electricity intensive. Together with the plastic products subindustry, these subcomponents contribute almost 20% of manufacturing output, or R76.8bn annually, and have by far the largest indirect job creation component.

Already, the largest share of the cost of production in the steel industry, representing over R12.8bn, is attributed to the cost of iron ore and Transnet’s transport costs, with coal and energy costs from Eskom representing 42% of the costs. Although some of these inputs are sourced and beneficiated locally, a carbon tax is likely to multiply the problem. Moreover, with prevailing high electricity and fuel prices, the energy-intensive subindustries of the broader M&E cluster will face double negatives with the implementation of the carbon tax.

The first negative is the detrimental effect on export competitiveness, and the second is the direct compounding negative effect on production costs, with dire implications for employment. In theory, carbon taxes could be offset by earmarking any revenue from them for direct cash transfers or for social programmes aimed at reducing poverty, including providing partial funding for free higher education, National Health Insurance, housing, schools, libraries and many other poverty-reduction interventions. However, the tax may lead to more job losses, as struggling businesses and small and micro-enterprises with high carbon emissions are taxed no differently from flourishing businesses and medium and large businesses.

The carbon tax is regressive in nature, and the broader society may be affected disproportionately. Also, considering the prevailing difficult operational environment, it is misguided to further burden businesses with a carbon tax, as short-term gains can leave long-term effects. While the intention by the government to plug existing gaps in public finance is commendable, it should not be at the expense of growing the economy.

Although SA has to honour its pledge in the 2015 Paris Agreement on climate change to support the global effort to stabilise greenhouse gas concentrations, the country is not compelled to do so under the current national circumstances. A plethora of issues need to be tackled before parliament passes the bill. These include quantifying the net fiscal costs of carbon emission and explaining how collected revenue will be rechannelled into the economy.

Benjamin Franklin famously said only two things are certain in life: death and taxes. But while most of the fuss about taxation in SA is over how much revenue the state collects and how often it is wasted, too little is said about how taxes are raised. Continuously raising revenue through a kaleidoscope of taxes on production, with no regard for how effectively resources are used or the quality of services, provides a strong basis for mistrust in the government, leading to less tax compliance.

This is against the principle of fiscal exchange proposition or quid pro quo, which states that in return for paying taxes citizens have a right to expect quality service delivery. The proposed carbon tax will add to business costs, thereby conflicting with the government’s priorities of creating jobs, reducing income inequality and attracting investment.

• Ade is chief economist of the Steel and Engineering Industries Federation of Southern Africa.